Retirement > 401(k)s & IRAs
A plan for city workers
March 20, 2000: 10:18 a.m. ET

A 457 plan has many of the advantages of a 401(k), but different rules
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NEW YORK (CNNfn) - If you work for a municipality and don't have access to a 401(k), you will get to participate in something called a 457 program. The rules are different, but you'll still get the advantages of tax-deferred savings.
    In response to a reader's question, Heather Locus, a certified financial planner from Schaumburg, Ill., and a member of the Financial Planning Association, said a main difference is the limit on annual savings.

    Ask the expert a question.

    I am currently deferring a portion of my income to a city government 457 program. I understand there are greater limitations as compared with 401(K)s and standard Roth IRAs. My question is, would I be better off deferring this money into a Roth IRA based solely on the limitation factors?
    A Section 457 plan is a nonqualified deferred compensation plan of a governmental agency or tax-exempt organization. Contributions are not taxable in the year the compensation is earned. The taxes on contributions and earnings are deferred until cash is withdrawn, just as with a qualified profit sharing plan such as a 401(k) or deductible IRA. Withdrawals from 457 plans are limited to a few specific circumstances fairly similar to other retirement plans. As a nonqualified plan, however, there are a few differences between 457 plans and 401(k)s.
    The first difference is the amount that an employee can defer each year. The maximum a participant in a 457 plan can defer is $7,500; a 401(k) participant can defer $10,500 for the year 2000. A 457 plan cannot be rolled over to an IRA upon separation from service as a 401(k) and other qualified plans can. All employer-sponsored retirement plans are subject to Required Minimum Distributions (RMDs) at age 70-1/2, and 457 plans are no different. Most 457 plans also offer very limited investment options, as do many 401(k) plans.
    For most investors, a 457 plan or 401(k) is the best way to save for retirement. The combination of upfront tax deduction, tax deferred earnings and simplicity by having the employer deduct contributions from the employee's paycheck is hard to beat. Roth IRAs also are an attractive alternative, particularly if you can maximize your 457 plan contributions and still have additional funds to invest for retirement.
    Roth IRAs have almost an unlimited selection of investment alternatives. The main disadvantage of a Roth is that you do not get the current tax deduction. You are also limited to a maximum contribution of $2,000 per year. The tax-free earnings and distributions of a Roth along with the fact that Roths are not subject to RMDs at age 70-1/2 provide a lot of estate planning benefits if the primary goal of the investment is to maximize wealth for the beneficiaries.
    If your main goal is saving for your own retirement, the benefits of a 457 plan outweigh the limitations and probably would be a better strategy than starting a Roth IRA. Of course, if you can do both, that would be ideal! Back to top


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